All posts tagged SNB

What do tiny Switzerland and China–the world’s most populous nation–have in common?

It might sound like the start of a bad joke, but the home of luxury watch manufacturers and secret bank accounts is like the world’s second-largest economy in one key respect–its central bank’s foreign-exchange reserves are also a market force to be reckoned with.

Now, tiny Switzerland is never going to have the $3.2 trillion in reserves that currently sit with the People’s Bank of China.

Let’s not get too carried away. But the Swiss National Bank‘s decision earlier this month to cap the value of the Swiss franc by vacuuming up euros, is likely to result in an explosion of its reserves, though it’s too early for hard data just yet.

And given the dismal outlook for the European single currency, it’s pretty likely the SNB will be looking to exchange some of its newly acquired euros for other currencies.

So, while it doesn’t have the clout of the PBoC, currency traders are increasingly sitting up and taking notice when the SNB talks, as we saw Thursday when the pound rose following comments by one an SNB official.

The move announced by the European Central Bank on Thursday in collaboration with the Fed, the Bank of Japan, the Bank of England and the Swiss National Bank, certainly helps to reduce some uncertainty and increase the appetite for risk in the financial markets.

But, given that funding pressures were not that high and that these same central banks provided the same facility back in 2008 at the height of the global banking crisis, the decision suggests that the central banks are once again preparing for a further deterioration in market conditions.

This is hardly surprising.

Numerous initiatives in recent weeks to remove the risk of a default have failed. And despite repeated pledges from Germany and France that they will stand by Athens, the political and economic reality is clear: Sooner or later, Greece will be unable to meet the terms of its bailout and will need to restructure its debts.

This will be triggered by either a fresh collapse in the value of the euro or a further rise in deflationary pressure that forces the Swiss National Bank to push the Swiss franc even lower.

For the moment, the SNB’s utmost commitment to holding the euro above CHF1.20 is helping to ensure the peace. The central bank’s promise to defend that level come what may means that investors are wary of testing its resolve just yet and that the SNB itself has not had to spend very much keeping the euro above that level.

As the global economic recovery continues to falter and exporters around the world find life increasingly difficult, more central banks will come under pressure to manage their currencies more carefully. In other words, they must ensure their currencies remain competitive as the battle in export markets intensifies.

This is just what the SNB has done.

Its decision to cap the franc’s rise against the euro has certainly pleased Swiss industrialists, who for months have been grumbling that safe-haven flows into their currency was damaging the Swiss economy.

The trouble is, many other economies are in a similar boat.

As U.S. Treasury officials have been keen to point out, Switzerland is a special case given its safe-haven status which distorts the impact of monetary policy on its currency.

But Norway, which has already found its currency strengthening as an alternative safe haven to the franc, has warned that it will cut its interest rates if it needs to protect its economy.

Sweden, which is also likely to find its krona in the firing line, could well follow suit.

This is all taking place against a backdrop of easing monetary policy in most major economies, including the U.S., the euro zone, the U.K. and Japan.

In fact, there is continued talk that Japan will also have to intervene to stop the yen from rising, given that is suffers from a safe-haven status like the franc.

However, there are a myriad of other countries that are likely to find their currencies rising as investor interest in most major currencies continues to fall.

If you need any evidence that policy makers are better off working together, look no further than the crazy swings in the currencies market this week.

Unless you have been basking on a remote Pacific island, you will know that the Swiss National Bank shook things up big-time Tuesday when it imposed a cap on the franc.

The SNB’s action makes perfect sense, in a lot of ways. It simply had to do something to hose down its white-hot currency before its retailers started going out of business (thanks to border-hopping Swiss shoppers), exporters wilted and the economy was sucked into a deflationary spiral.

Yes, the plan has its flaws. Big ones, actually. But you can see why they did it.

The Norwegian krone may look like the perfect hiding place but it is just too small.

Also, given the recent deterioration in the global economy, it may not look so perfect after all.

Norway has found itself under increased scrutiny over the last few days as the Swiss National Bank tried to knock its franc from the top of the international safe-haven list by pledging to cap the currency against the euro to prevent it from damaging Swiss exports.

This has left many international investors in a quandary, especially if like some real money funds they are committed to keeping a minimum share of their exposure to Europe. The euro is hardly seen as a good alternative and the pound is also quickly losing its luster as the U.K. recovery falters.

For the last month or so, investors have started to turn to Scandinavia, and Norway in particular, given the relative strength of their economies, their strong fiscal positions and interest rates that look positively attractive compared with the minimal levels available elsewhere.

By the time the SNB had finished surprising the world with its cap on the franc, the Norwegian currency had been pushed up to a new eight-year high against the euro in the international rush for a new place to hide.

However, there are two key reasons why flows in the krone are likely to prove limited…

The Swiss National Bank’s attempt to cap the franc at 1.20 against the euro should ease pressure on exporters. But many Swiss firms still face an uphill battle as Europe’s persistent debt troubles inflict continued pain on companies.

“All will depend on how the European debt crisis will evolve,” said Danske Bank analyst Kasper Kirkegaard. “If the troubles increase, especially if global growth slows, more problems could be ahead,” he said.

Although the central bank said it will enforce its minimum currency rate “with the utmost determination,” failure to live up to its word could spell trouble for the economy, said Tobias Straumann, economic historian at the University of Zurich.

“Potential difficulties include that the SNB isn’t credible enough and will run out of ammunition and there is the danger that the euro assets it will buy to support the franc may be worthless,” Mr. Straumann said. But overall, the move is “important for exporters and importers to have a certain guidance,” he said.

Export-dependent companies greeted the SNB decision with a great sigh of relief. “This measure gives us some planning security,” said Dominik Werner, spokesman for Swiss chemicals maker Lonza.

Having tried and failed to control the Swiss franc’s relentless appreciation through normal foreign exchange market intervention and, most recently, with negative nominal interest rates, the Swiss are throwing in the towel and saying that they will accept whatever rate of inflation it takes to put a halt to the currency’s rise.

Then, like now, the Swiss franc was driven ever higher by huge safe-haven currency flows, including investor flight from countries where the oil shock was feeding into rapidly rising inflation and from oil exporters looking for a secure place to bank their wealth. In order to prevent the Swiss franc from rising ever higher, the Swiss introduced levies on Swiss franc deposits by non-residents, starting with a 2% quarterly charge in 1972 when 100% reserve requirements on non-resident deposits and a prohibition of interest rate payments to non-residents failed to do the trick, according to a 2010 research note by JP Morgan’s Paul Meggyesi.

But even though they were increased to 3%, the levies didn’t deter investors. By 1978 the Swiss increased the levy to an astonishing 10% per quarter. And yet from 1972 to 1978, the Swiss franc appreciated by some 75% in nominal terms.

Only when the Swiss National Bank adopted currency targeting did the franc stop appreciating. The consequence was inflation.